Cuts Roll In as Time Runs Out

The federal government enters a controversial new phase of deficit cutting Friday, as an automatic trigger begins slicing budgets in some areas while leaving programs such as Medicare and Medicaid—among the largest drivers of future debt—largely untouched.

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WSJ's Sudeep Reddy joins the News Hub as $85 Billion in budget cuts, known as the 'sequester' are slated to kick in. Photo: Getty Images.

The $85 billion in so-called sequester cuts push Washington, and the nation's economy, into uncertain waters. The debate over the across-the-board reductions has added to the already-high level of acrimony between Democrats and Republicans on fiscal matters, lowered even further the public's estimation of the capital's leaders and raised consumer fears about the economy, according to polls.

In the eyes of many budget experts, though, it is doing something worse: By focusing on a proportionally small level of spending, the sequester fight is distracting attention from longer-term deficit issues that need to be addressed.

Even cuts that have some bipartisan support, such as limiting the growth of future Social Security benefits or ending farm subsidies, have been shelved amid the brinkmanship.

President Barack Obama is meeting Friday with congressional leaders to discuss the sequester. If, as expected, they find no way to avoid it, Mr. Obama will sign an order directing government agencies to begin implementing the cuts.

On Thursday, Congress continued its sink into partisan mud. The Senate failed to pass a pair of largely symbolic bills to block or ease the effects of the sequester, leaving members of both parties to concede that the cuts are likely to take effect, at least for a while.

The spending cuts known as the sequester take effect Friday, barring any last minute deals. Sudeep Reddy explains what it means on Markets Hub. Photo: AP.

A last-minute deal to avert Friday's scheduled 'sequester' budget cuts totaling $85 billion looks unlikely as President Obama and congressional leaders do not plan to meet until during the day on Friday. WSJ's Peter Nicholas has details. Photo: Getty Images.

House Republicans are preparing to enshrine the lower spending levels in a bill to finance the government from March 27 through Sept. 30. Senate Democrats haven't said how they will respond, but there are strong indications they will fight over priorities and details within the bill, but not contest its overall spending level.

The White House has been forced to defend some of its warnings about the impact of the cuts, which some critics believe are overblown.

"This is going to be a growing storm, it will hurt more and more as more time goes on," said Gene Sperling, director of the White House's National Economic Council. "But I think there's a certain amount of pain that's already being felt in the economy." White House officials have pointed to cuts in military spending last year that reduced economic growth.

Many Republicans scoff at the notion that a 2.4% cut from a $3.55 trillion federal budget can't be absorbed easily. They point to a rising stock market as a sign that Americans are shrugging off the sequester's effects, and accuse the White House of preparing to manipulate the cuts to gain political leverage.

"The president is ready to make it bite as hard as possible—all to send a simple message to the public: 'You want to control Washington spending, America? Fine, let me show you how much I can make it hurt,' " Sen. Mitch McConnell (R., Ky.) said.

Against that backdrop, White House officials and some Republicans are arguing that the best way out of the impasse is to resume the search for a comprehensive deficit-cutting deal that gets to the core of the long-term problem through a rewrite of tax policy and a revamp of entitlement programs such as Social Security and Medicare.

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In recent days, administration officials have recirculated the president's ideas for a $1.8 trillion deficit-reduction deal including $680 billion in additional taxes—but also $1.1 trillion in spending cuts, including slowing the growth of Medicare and a reduction in inflation-adjusted increases in Social Security benefits.

Many Republicans agree that a better long-term fix is needed and say the relatively small $85 billion in spending authority cuts could prove disproportionately disruptive and distracting.

For all the political drama they are generating, the cuts fall entirely on the smaller and already-shrinking part of the budget devoted to domestic and military programs that have to be renewed yearly by Congress.

"Why not do something that gets us out of debt and doesn't destroy the Defense Department?" said Sen. Lindsey Graham (R., S.C.). "Call me crazy.''

It is unclear whether the sequester would make it easier or harder to pivot back toward a more effective way of dealing with the broader trends in the nation's debt problems.

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The deficit (the annual gap between federal spending and revenue) and the U.S. debt (the cumulative total of outstanding government borrowing) remained relatively modest as a share of the economy until five years ago. Then the financial crisis, plummeting tax revenue and skyrocketing spending pushed borrowing to historic levels.

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The $85 billion in so-called sequester cuts take effect Friday if, as expected. Pictured, a view of the Capitol building.
Reuters

The deficit now is falling sharply. It is projected to shrink to $845 billion this year from $1.4 trillion in 2009. The Congressional Budget Office predicts it will fall even more in the next few years because of spending cuts and an improving economy that generates more tax revenue and restrains government safety-net spending.

Yet that progress only masks the long-term budget problems. Economists forecast that after 10 years, the country's fiscal problems will snowball, driven largely by the baby boom generation drawing Social Security and Medicare benefits in rising numbers, as well as by climbing interest rates. Roughly 46 million Americans received Social Security retirement benefits in 2012, a figure forecast to grow 40% by 2023, with a similar increase for Medicare.

The government spent $1.793 trillion on Medicare, Social Security, Medicaid, and interest on federal debt in 2012, 50.7% of the federal budget. These are all shielded from the sequester, aside from a 2% cut in the payments Medicare makes to hospitals and doctors. Military spending, and funding for education, law enforcement, research and housing programs will be among the sectors facing the cuts.

The entitlement programs face their own fiscal problems. The Social Security disability trust fund is projected to exhaust its reserves by 2016. The Medicare fund that pays hospital bills will burn through its reserves by 2024.

Changes to entitlement programs are politically difficult, but some lawmakers said they would try this year as a way to end the stalemate. "I had a lot of senators call me today,'' said Mr. Graham, one of the few Republicans who has recently expressed willingness to include revenue increases. "They said, 'Let's rethink the big deal.' "

"I think we are derelict in our responsibilities to ignore the realities of entitlements," said Sen. Richard Durbin (D., Ill.). "It is impossible to say we are defenders of Medicare and ignore the looming deadline of 11 or 12 years when it is going to be insolvent. We're not defenders. We're basically standing by and watching its demise.''

What's Next

• March 1 The White House is expected to alert agencies their budgets have been cut. Agencies will begin notifying employees, contractors, and states that spending will contract over the next seven months.

• Early to mid March Furlough notices will begin being sent by agencies to many of their employees, warning that unpaid leave could begin in 30 more days.

• March 27 Unrelated to the sequester, funding for some federal programs and agencies expires. If an agreement isn't reached, a partial government shutdown could ensue.

• Early to mid April If a shutdown is averted, many agencies will begin unpaid leave for employees, typically one day per week or one day every other week. The cuts' impact may become more visible, possibly affecting places like airports.

• Sept. 30 The federal budget year ends, meaning the cuts have to be accounted for by this time.

• Oct. 1 The next federal budget year begins, triggering a second year of sequester cuts.

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